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DeFi – Decentralized Finance

Written By

Jemma Grist

Written By

Jemma Grist

Jemma is a writer, editor and fact-checker focused on retail trading and investing. Jemma brings a unique perspective to the forex, stock, and cryptocurrency markets and works across several investment websites as a researcher and broker analyst.

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Edited By

James Barra

Edited By

James Barra

James is an investment writer with a background in financial services. He has worked as a management consultant, where he delivered large-scale operational transformational programmes at some of Europe's biggest banks. James authors, edits and fact-checks content for a series of investing websites.

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Fact Checked By

William Berg

Fact Checked By

William Berg

William contributes to several investment websites, leveraging his experience as a consultant for IPOs in the Nordic market and background providing localization for forex trading software. William has worked as a writer and fact-checker for a long row of financial publications.

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Updated

Jun 24, 2024

Decentralized finance, or DeFi, is about using technology to cut out the traditional banks and other institutions from financial transactions. It’s a collective term for open financial products and services typically built on blockchain technology like Ethereum.

Currently DeFi is mostly about cryptocurrencies, but also NFTs and other replacements for traditional financial services. The idea is to create an interconnected system free from the interference of intermediaries such as central banks and governments. DeFi can be accessed by anyone with an internet connection and a browser or other app.

DeFi tokens give exposure to global financial markets and currency alternatives like cryptocurrencies. By making digital finance programmable, the individual gets increased control and visibility over their money.

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How DeFi Works

The DeFi revolution started with Bitcoin and specifically the idea behind the technology that underpins it – the blockchain. Blockchain technology (when implemented properly  should be noted) can be trusted and relied on without being dependent on additional intermediaries.

Solutions like “smart contracts” are one example. A smart contract essentially replaces the financial institution, such as a bank, giving the individual the power to hold and send funds, as well as issue refunds. Smart contracts are controlled by the respective community, meaning transactions can be publicly verified.

What Can You Do With It?

DeFi has created a unique, decentralized alternative to most financial services, opening up opportunities for new products. These are typically accessed through apps and platforms, such as Binance, that replace traditional money markets and offer retail products. Investors can speculate on Initial Coin Offerings (ICOs), for example, taking positions on emerging cryptocurrencies.

DeFi currently covers most services that a standard financial institution offers, including the secure sending and receiving of money, accessing currencies, borrowing, saving, investing, and earning interest through lending rates. However, due to its innovative technology, it also offers advantages over traditional finance, including lower costs and the frictionless streaming of money.

DeFi Vs Traditional Finance

Advantages

DeFi projects overcome many of the issues presented by traditional financial institutions. These centre around cryptocurrencies, arguably the future of finance, as demonstrated by the daily growth in market capitalization of leading altcoins. Services that were previously slow and subject to human error are automated and safer.

The DeFi Pulse Index list highlights its inclusivity, with blockchain products lowering barriers to entry and exit, making digital money accessible to everyone. The benefits are also regularly making news headlines, with people trading and loaning altcoins worth millions of dollars, without the need for personal identification.

Disadvantages

Trading on NFTs and cryptos comes with high levels of volatility and in turn, increased risk. Also, bugs in smart contracts are still common with no ability for retrospective amends once secured using respective protocols. Additionally, DeFi draws the financial system away from the interconnected legalities of global financial systems. And any attempt to do this creates a series of protocol challenges, and until these are addressed, the scalability of DeFi is questionable.

Finally, DeFi typically relies upon blockchain applications, meaning it suffers from limited transaction throughput. This means that transaction speeds can suffer as Ethereum networks, for example, can only process around 25 transactions per second, while Visa can process 24,000. Adding to the confusion are crypto airdrops creating popularity where there is none, making it difficult to separate the good crypto stock from the bad.

Trading With DeFi

Popular cryptos within the DeFi space include Bitcoin, Litecoin and Ripple. All offer trading opportunities for investors with a healthy risk appetite. See our guide to margin trading cryptos for live token exchange rates, the best brokers and prices, plus digital wallets. We also explain yield farming and staking investments.

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